October 5, 2007

This one takes some explaining. The big homebuilders borrowed money and bought up a lot of land. Now they are in trouble, running out of cash to run their businesses and pay down the debt - and the only way they can hope to surive is to build MORE houses to sell at a steep discount, because this brings in at least SOME cash.

Of course, the effect on the rest of the economy will be terrible: MORE houses dumped on an already-saturated market, at even lower prices. This will force prices to drop further, and more people to be in trouble.

We could make fun of the analysts that claimed the homebuilders would have strong cash flow during a downturn (due to less investment in land and improvements) and that the homebuilders were "land banks". Those investment ideas were Dumb and Dumber!

But the more important point is that the homebuilders struggle to survive shows why the builders are still overbuilding. Building homes, and selling at a deep discount, is the only way they can liquidate land to raise cash and pay down their debts in the current environment. This is why housing starts are still too high and will likely fall further over the next few quarters.

Posted by Dave Johnson at October 5, 2007 11:59 AM

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